NOTRE DAME OF DADIANGAS UNIVERSITY

Integrated Basic Education Department

Senior High School
Lagao, General Santos City

Fundamentals of Accountancy, Business and Management 2

Quarter/Term: Midterm Date: 2021.10.04 – 2021.10.08

Week No.: 7 21st Century Skills:
Damean’s Beat: Marian  Critical Thinking
NDDU’s 4Cs: ☐ Christian Leaders  Computing/ICT Literacy
 Competent Professionals  Communication
 Community-Oriented Citizens ☐ Creativity
☐ Culture-Sensitive Individuals ☐ Collaboration
Teacher/s: Jenly Rose B. de la Cruz ☐ Cross Cultural Understanding
 Career and Learning Self Reliance

Online Lesson:
I Topic: Analysis and Interpretation of Financial Statement
II. Learning Targets:
At the end of the lesson, I can:
1. define the measurement levels of solvency ratio and profitability ratio.
2. solve problems on solvency and profitability ratios independently.
3. interpret the computed solvency and profitability ratios.
4. participate in class discussion by answering specific questions.
III. References/ Materials:

Ong, F & Gomendoza, J (2017) Fundamentals of Accountancy, Business and Management 2. C&E
Publishing. Quezon City pp.66 - 96

https://corporatefinanceinstitute.com/resources/knowledge/finance/analysis-of-financial-statements/

Self-Learning Module, Calculator, Laptop, Headset and Powerpoint Presentation

VI. Annotation:

Continuation of Week 6 lesson

Module No.: 7
I. Topic: Analysis and Interpretation of Financial Statement
I. Learning Targets:
At the end of the lesson, I can:
1. define the measurement levels of solvency and profitability ratio.
2. evaluate carefully the financial position of the company through computation and analysis of
solvency and profitability ratios.
3. complete the given task independently.

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II. Introduction/Review/Content:

Last week we discussed the importance of financial analysis and the liquidity ratio. In this
module, we will discuss the other ratios particularly the solvency and profitability ratio. We will be
using the same financial statement for consistency of the data, evaluation and analysis.

Solvency and liquidity are both

important for a company's financial health
and an enterprise's ability to meet its
obligations. However, the liquidity ratio
used to analyze the enterprise's ability to
pay short-term bills and debts and a
company's capability to sell assets quickly
to raise cash. Thus, solvency refers to a
company's ability to meet long-term debts
and continue operating into the future.

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 Furthermore, solvency ratios measure the long-term health of a business. In other words,
solvency ratios prove (or disprove) that business firms can honor their debt obligations. It helps the
business owner keep an eye on downtrends that could suggest the potential for bankruptcy in the
future. It helps analysts keep a close eye on how much debt a company is taking on in comparison
to its assets and earnings. Moreover, this ratio quantifies the size of a company’s after-tax income,
not counting non-cash depreciation expenses, as contrasted to the total debt obligations of the firm.
Also, it provides an assessment of the likelihood of a company to continue congregating its debt
obligations.

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 Fidas Merchandising
Statement of Financial Position
As of December 31
( in millions)

Assets 2019 2018 2017

Current Assets
Cash P 222.90 P 330.20 P 290.00
Accounts Receivable 282.50 172.10 156.00
Inventory 146.30 92.80 90.90
Prepaid Expenses 74.10 70.30 60.70
Total Current Assets 725.80 665.40 597.60
Property, Plant and Equipment 1866.40 556.20 625.50
Total Assets P 2,592.20 P 1,221.60 P 1,223.10

Liabilities and Owner's Equity

Current Liabilities P 551.90 P 620.60 P 580.70

Non-current liabilities 1,822.40 376.60 400.00
Total Liabilities 2,374.30 997.20 980.70
Owner's Equity 217.90 224.40 242.40
Total Liabilities and Owner's Equity P 2,592.20 P 1,221.60 P 1,223.10

Fidas Merchandising
Income Statement
For the Year Ended December 31
( in millions)
2019 2018 2017

Net Sales P 2,213.30 P 1,738.70 P 1,543.20

Cost of Goods Sold 1,032.10 831.80 700.10
Gross Profit 1,181.20 906.90 843.10
Selling and Administrative Expense 889.20 659.50 555.50
Operating Income 292.00 247.40 287.60
Interest Expense 90.90 30.50 25.00
Income before Income taxes 201.10 216.90 262.60
Income tax expense 60.30 65.00 77.40
Net Income P 140.80 P 151.90 P 185.20

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1. Debt Ratio – measures business liabilities as a percentage of total assets. It measures the
extent of total assets financed by liabilities. Generally, a lower ratio is favorable since it means
that more funds are provided by the owner. In discussing a company’s sources of funds, we
go back to the fundamental accounting equation. Thus, a 50-50 ratio where liabilities and
owner’s equity have the same proportion is considered fair as this is determined to be the
optimal debt ratio. However, a slightly higher debt ratio is also acceptable although we must
consider the industry and payment history of the company.

Debt Ratio = Total Liabilities The company is considered highly

Total Assets leveraged and this is risky for the
= P 2,374.3 company because most of its assets
P 2,592.2 are owned by the creditors. In simple
= 91.6 % words, the company will have to sell
most of its assets to pay its creditors.

2. Equity Ratio – measures the percentage of total assets financed by the owner’s investment.
It measures the extent of total assets owned by the owner. Furthermore, the higher the equity
ratio, the more favorable it is for the company. This is also an advantage if the company is to
apply for a loan as potential creditors will find the company less risky.

Equity Ratio = Total Equity The owner owns 8.4 % of company

Total Assets
assets while the creditors owns 91. 6 %.
P 217.9
P 2,374.3
= The result is unfavorable.
P 2,592.2
P 2,592.2
= 8.4 %

3. Debt to Equity Ratio – measures the financing provided by the creditors against those
provided by the owner. This measures the extent of borrowed funds as compared to the
investment by the owner. The optimal fair ratio is 1 or 100 %. This means that liabilities are
equal to owner’s equity. The higher the ratio, the higher the risk as interest payments on
liabilities are onerous. Hence, a lower ratio is favorable.

Debt to Equity Ratio = Total Liabilities During the year, the creditors heavily funded the
Total Equity assets of the company that for every P 1 funded
= P 2, 374.3 by the owner, the creditors funded P 10. 90. This
P 217.9 is very unfavorable since the company will pay
= 10.9 % huge interest for the use of creditor funds in the
% business.

4. Times interest earned – measures the company’s ability to pay the interest charged to the
company for its outstanding liabilities. It measures the number of times operating income can
cover interest expense. The higher the number of times the operating income can cover
interest expense, the more favorable it is for the creditors because it means the company is
not struggling to pay its interests from loans.

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 Income before Interest and Taxes The company interest is 3.2 times of
Times Interest Earned = Interest Expense its income before interest and taxes.
The decrease in number of times
= P 292.0
P 90.9 may be due to increasing interest
payments from large amounts of
= 3.2 times loans.

Profitability
Profits are the lifeblood of any business without which a
business cannot remain a going concern. Profitability ratios
are the financial ratios that talk about the profitability of a
business with respect to its sales or investments. They are
quite useful tools to understand the
efficiencies/inefficiencies of a business and assist
management and owners to take corrective actions. Since
the profitability ratios deal with the profits, they are as
important as the profits.

1. Gross Profit Ratio – measures the percentage of peso sales earned after deducting cost of
goods sold. Hence, this is the percentage of mark -up a company adds to the cost of its
inventory which will alter the operating expenses related to the sale of goods. A high gross
profit ratio is favorable as there will be greater operating income after all operating expenses
have been paid.
Gross Profit Ratio = Gross Profit
Net Sales
The gross profit margin of the
= 1,181.2
P
company was not bad as the mark- P 2,213.3
up was more than 50% which will be
= 53.4 %
used to absorb the operating
expenses.

2. Operating Profit Margin – measures the percentage of income earned after deducting the
cost of sales and operating expenses. In short, it is the income earned per peso of net sales
after the cost of inventory and the related operating expenses are deducted. This is an
indication of how the company is effectively and efficiently managing its expenses at its sales
level. Hence, a higher ratio is favorable since it indicates efficiency in managing expenses.

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 Operating Income
The operating profit margin is 13.2 %. This Operating Profit Margin =
indicates that the company is not efficiently Net Sales
managing its expenses. A closer look at the P 292.00
=
company’s income statement reveals that P 2,213.3
selling and administrative expenses show 13.2 %
=
an increasing trend. If this is will be the
case, the company will end up incurring
losses.

3. Net Profit Margin – measures the percentage of net income earned from net sales after all
other income has been added and all operating expenses and other expenses including
income taxes have been paid. A higher net profit margin is favorable to the company.

The management should exert effort Net Income

Net Profit Margin =
to increase sales and cut on Net Sales
expense if they want to improve net = P 140.8
income for future operations. P 2,213.3
= 6.4 %

4. Return on Assets – measures the company’s efficiency in using its level of investment in
assets to generate income. Generally, a high ratio is favorable. Since capital assets are one
of the company’s investments, the return on asset measures the income derived from these
asset acquisitions.
Net Income
The return on assets was 7.4 %. Return on Assets =
Average total assets
This means that the company
P 140.8
assets were not fully utilized to =
P 1,906.9
generate income 2,213.3
= 7.4 %
Assets at Beginning of the Year + Assets at the Ending of the Year
Average Total Assets =
2
P 2,592.2 + P 1,221.6
=
2
= P 1,906.9

Check your Understanding:

Using the information of Fidas Merchandising, evaluate the financial performance using the
solvency and profitability ratio for 2018. Show your solution in a handwritten.

1. Debt ratio
2. Equity Ratio
3. Debt to Equity Ratio
4. Times Interest Earned
5. Gross Profit Ratio
6. Operating Profit Margin
7. Net Profit Margin
8. Return on Assets

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The answers in module 6 will be sent in the google classroom.

V. Enrichment:

Required: Using the financial statement of My Trading, you are going to evaluate the financial
position of the company through computing the solvency and profitability ratio for 2019. Show
your solutions. You may use Microsoft programs.
My Trading
Statement of Financial Position
As of December 31

Assets 2019 2018

Current Assets
Cash P 158,000.00 P 84,000.00
Accounts Receivable 130,000.00 192,000.00
Inventory 240,000.00 200,000.00
Prepaid Expenses 500,000.00 530,000.00
Total Current Assets 1,028,000.00 1,006,000.00
Property, Plant and Equipment 2,340,000.00 2,350,000.00
Total Assets P 3,368,000.00 P 3,356,000.00

Liabilities and Owner's Equity

Current Liabilities P 530,000.00 P 584,000.00

Non-current liabilities 800,000.00 840,000.00
Total Liabilities 1,330,000.00 1,424,000.00
Owner's Equity 2,038,000.00 1,932,000.00
Total Liabilities and Owner's Equity P 3,368,000.00 P 3,356,000.00

My Trading
Income Statement
For the Year Ended December 31
( in millions)
2019 2018

Net Sales P 4,972.00 P 4,150.00

Cost of Goods Sold 3,046.00 2,444.00
Gross Profit 1,926.00 1,706.00
Selling and Administrative Expense 1,556.00 1,500.00
Operating Income 370.00 206.00
Interest Expense 88.00 92.00
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Income before Income taxes 282.00 114.00
Income tax expense 94.00 42.00
Net Income P 188.00 P 72.00
VI. References/Materials:

Ong, F & Gomendoza, J (2017) Fundamentals of Accountancy, Business and Management 2.

C&E Publishing. Quezon City pp.66 - 96

Laptop, paper, pen and calculator

☐☐☐

NDDU-IBED-F-081